February 4th, 2025

January Federal Tax Update

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Author: David S. De Jong

INDIVIDUALS

In Franklin v. Commissioner, TC Memo 2025-8, the Tax Court determined that a withdrawal of $155,000 by an Alabama county sheriff from an account used to fund meals for jail inmates that was invested in a used car dealership was not taxable income because of the clear intention of a loan and actual repayment with interest; under state law the sheriff was permitted to retain unneeded funds for inmate meals but the Court determined that this constituted “Other Income” and did not belong on a schedule C where the taxpayers sought to offset the income with legal fees and other expenses.

In Fredenberg v. Commissioner, TC Summary Opinion 2025-1, the Tax Court concluded that an individual held rental property with the intention of making a profit despite reducing actual rent payments from an unrelated tenant in exchange for repairs.

In Capitol Places II Owner LLC v. Commissioner, 164 TC No. 1, The Tax Court denied a deduction for a conversation easement of $23.9 million related to an early 20th century building in Columbia, South Carolina which had been denied a listing in the National Register of Historic Places and whose owner made no application for certification of the historic significance of the building within a registered historic district.

In Seabrook Property, LLC v. Commissioner, TC Memo 2025-6, the Tax Court determined that a donation of a conservation easement was only worth about 14 percent of the $32.6 million valuation that was claimed; the Court noted that the property appraiser compared the lot to property near vacation destinations including Disney World.

In Mosley v. Commissioner, TC Memo 2025-7, the Tax Court denied a net operating loss carried forward and a capital loss also carried forward where the NOL should have been carried back under prior law in the absence of an election to the contrary and the purported capital loss had been improperly claimed previously as an ordinary loss.

In Leo v. Commissioner, TC Memo 2025-9, the Tax Court accepted the testimony of the expert witness for the IRS who valued a donated building at $4.05 million, rejecting the valuation of the taxpayer’s expert of $12.425 million based on flawed assumptions about the property’s condition and rental potential (it was half rented in poor condition and sold for $1.3 million 16 months after the donation).

In Letter Ruling 202505002, IRS reiterated that expenses of a surrogate are not deductible medical expenses but expenses of reproduction technology performed directly on the couple are deductible by them.

RETIREMENT AND ESTATE PLANNING

In Hutcheson v. Commissioner, TC Memo 2025-1, the Tax Court required a trustee and retirement plan fiduciary who was already incarcerated for wire fraud related to embezzlement income from retirement plans to report more than $5.3 million despite his requirement to make restitution; the Court noted that the individual wrote articles and spoke frequently about the importance of fiduciary responsibility but, when he testified before Congress on the issue, he had already embezzled close to $800,000.

In Announcement 2025-2, IRS indicated that it will not enforce the requirement of minimum distributions in the case of certain inherited retirement plan and IRA interests until at least 2026.

BUSINESS

Proposed Regulations under Code Section 355 would require enhanced reporting on corporate divisions including the five years following the transactions in many cases.

Final Regulations under code 6011, recognize that certain “captive” insurance companies may be legitimate but identify those that are “listed transactions” and which must be disclosed.

In McHenry v. Texas Top Cop Shop, Inc, 135 AFTR2d 2025- __, the U.S. Supreme Court by an 8-1 vote permitted enforcement of the Corporate Transparency Act pending a hearing on the merits by the Fifth Circuit Court of Appeals on March 25, 2025.

In Sehati v. Commissioner, TC Memo 2025-3, the Tax Court found that six members of a single family who had jewelry kiosks failed to report $3 million in proceeds from the sale of jewelry; they claimed that the jewelry was inherited and that the items were sold at less than their value.

In Grubaughb v. Commissioner, in a Bench opinion, the Tax Court concluded that an individual deducted transportation and travel expenses as well as meals and entertainment without proper substantiation and without a business purpose as he appeared to have created the schedule C to offset his wage earnings.

In United States v. Moore, 135 AFTR2d 2025-6348, a Virginia Federal District Court admitted evidence showing huge spending on luxuries such as expensive cars and an extravagant wedding as evidence of willful failure to pay over payroll taxes; the defendant argued that his lifestyle had no relevance.

In Revenue Procedure 2025-10, IRS issued updated guidance under Section 530 of the Revenue Act of 1978 which created a “safe harbor” for certain businesses treating workers as independent contractors (the guidance makes it clear that some workers in two separate and distinct functions may be independent contractors for one purpose and employees for another); in Revenue Ruling 2025 – 3, IRS provided examples as to its interpretation of Section 530.

In Letter Ruling 202504020, IRS concluded that a name, image and likeness (NIL) group does not qualify for section 501(c) (3) status despite engaging college athletes for charitable services as the primary purpose is to serve the private interests of the student athletes rather than to further an exempt purpose.

PROCEDURE

Final Regulations under Code Section 7803 indicate which IRS decisions are not eligible to take to Appeals including “nonprocessable” offers in compromise, passport denials of “seriously delinquent” taxpayers, challenges based on unconstitutional statutes or invalid regulations, issues involving false information or a frivolous position, matters where criminal prosecution is pending or issues designated for trial.

In RSBCO v. United States, 133 AFTR 2d 2024-1776,  the US Supreme Court declined to hear an appeal from a decision of the Fifth Circuit Court of Appeals affirming a Louisiana Federal District Court’s vacating a jury decision which would have caused abatement of over $510,000 in penalties on account of an employee’s depression and marital troubles causing late filing of returns; the case went back to the District Court for a new trial because of an improper jury instruction.

In Chopra v. Commissioner, TC Memo 2025 -2, the Tax Court concurred as to the applicability of the civil fraud penalty in the case of a PhD who deducted almost $95,000 in consulting expenses without any revenue to offset one-half of her wage income as well as claiming almost $70,000 in unreimbursed medical expenses; IRS presented extensive evidence of fraud including a fake bill from an attorney, a false letter from Johns Hopkins University Medical Center and hotel “receipts” with the hotel name misspelled and indicating an 11:10 pm check out time.

In Bachner v. Commissioner, 135 AFTR2d 2025 – 343, the Seventh Circuit Court of Appeals agreed with the Tax Court that the civil fraud penalty could apply on claiming an improper refund despite the lack of a tax deficiency; the taxpayer has been previously convicted of both tax and non-tax crimes.

In United States v.  Schwarzbaum, 135 AFTR 2d 2025 – ___, the Eleventh Circuit Court of Appeals reversed in part a decision of a Florida Federal District Court and concluded that imposition of a minimum $100,000 penalty for willfully failing to report one small foreign bank account over three years was grossly disproportionate and violated the Excessive Fines Clause of the Eighth Amendment.

In United States v. Marcellus, 135 AFTR 2d 2025- ____, the Third Circuit Court of Appeals agreed with a Pennsylvania Federal District Court that a preparer’s own tax return can be introduced as evidence in a criminal case when the preparer blamed errors on the information provided by the client, the Court concluding that the value of this evidence outweighed the danger of unfair prejudice.

In United States v. Driscoll, 135 AFTR2d 2025 – 332 a New Jersey Federal District Court allowed IRS to foreclose on a dental practice(as well as the underlying real estate) owned by a limited liability company in which the taxpayer owned 50 percent and another dentist owned the balanced; the parties argued that the Government’s remedy was limited to a “charging order” allowing it to receive distributions but the Court, noting that federal law overrides state law with the limitation, balanced the interest of the parties and permitted the sale of the entirety of the practice; In JP Morgan Chase Bank v. Higgins, 135 AFTR 2d 2025 ___, a Michigan Federal District Court allowed IRS to foreclose on real property, rejecting an argument that determining a tax debt as uncollectable was a forgiveness of indebtedness.

In Heartmann v. Commissioner, 135AFTR 2d 2025- __, the Third Circuit Court of Appeals agreed with the Tax Court that a lawyer who needed to file four back returns and paid no estimates for the current year was not eligible for an alternative to levy in a Collection Due Process proceeding; in Besore v. Commissioner, TC Memo 2025-10, the Tax Court rejected collection alternatives where the petitioner failed to provide requested financial information and found no abuse of discretion in denying an in-person CDP hearing which was not available at all in September 2021 due to COVID restrictions.

In Commissioner v. Zuch, the US Supreme Court agreed to review a decision of the Third Circuit Court of Appeals at 133 AFTR 2d 2024 – 1091, where the Tax Court was reversed in holding that a Collection Due Process proceeding becomes moot when a liability in issue is “paid” by application of a refund from another year.

In Gomez v. Commissioner, in a Bench Opinion the Tax Court denied innocent spouse treatment to a wife, concluding that her knowledge of unreported income and lack of ownership was of greater weight than marital separation and subsequent compliance.

Executive Orders issued by President Trump freeze IRS hiring and require employers, with other federal workers, to return to the office on a full-time basis.